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I get the Morningstar newsletter in my email, and found this interesting. I've heard from a lot of people how horribly overvalued the Nasdaq supposedly is, and this is a bit of the other side of the story. Thoughts?


"There's been a lot of talk lately about the valuation of growth and technology stocks. In recent months, I have read numerous opinion pieces on this subject by journalists, academics, pundits, and money managers. All of these articles and papers came to a similar conclusion: Growth stocks, and technology stocks in particular, are dramatically overvalued. One money manager even claimed that the Nasdaq 100 is 60% overvalued. Many of these pundits came to this conclusion by looking at the aggregate P/E ratio of the Nasdaq 100, an index that includes 100 of the largest stocks listed on the Nasdaq exchange.


But there's a problem with these arguments: None of them has looked at the valuations of individual companies within the index. They all use aggregate data, such as the average P/E or P/B ratio of the stocks within the index...."

http://news.morningstar.com/doc/article/0,,115584,00.html?hsection=Comm1


~Windchasers
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I would be really curious how optimistic these DCF calculations are, and how the historic relationship of these estimates to subsequent returns is.
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Windy;

It's been my experience that large investment community firms generalize, which is exactly what I think is happening with the article you highlighted.

If you do your own research, finding out what makes a company tick, then buy the stock of that company when it goes on sale, what Morningstar says or doesn't say amounts to nothing.

In short, do your own research, and then trust the research you've done. If you'll follow that advise, twenty-five years from now you'll be a very wealthy individual.

Wax
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The Nasdaq is always a sell because the long-term returns are lower than other indices like the Russell 1000 and the standard deviation is higher. More volatility & risk, for less.

Investors over the years have chased the hot new inventions, but few of those companies survive and produce high returns. Usually the profitablility goes not to the inventors or their businesses, but the companies that buy their products. Check out the historical returns at DFA for living proof.

Petey



I get the Morningstar newsletter in my email, and found this interesting. I've heard from a lot of people how horribly overvalued the Nasdaq supposedly is, and this is a bit of the other side of the story. Thoughts?


"There's been a lot of talk lately about the valuation of growth and technology stocks. In recent months, I have read numerous opinion pieces on this subject by journalists, academics, pundits, and money managers. All of these articles and papers came to a similar conclusion: Growth stocks, and technology stocks in particular, are dramatically overvalued. One money manager even claimed that the Nasdaq 100 is 60% overvalued. Many of these pundits came to this conclusion by looking at the aggregate P/E ratio of the Nasdaq 100, an index that includes 100 of the largest stocks listed on the Nasdaq exchange.


But there's a problem with these arguments: None of them has looked at the valuations of individual companies within the index. They all use aggregate data, such as the average P/E or P/B ratio of the stocks within the index...."

http://news.morningstar.com/doc/article/0,,115584,00.html?hsection=Comm1


~Windchasers
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Investors over the years have chased the hot new inventions, but few of those companies survive and produce high returns. Usually the profitablility goes not to the inventors or their businesses, but the companies that buy their products. Check out the historical returns at DFA for living proof.

that feeds a theory of mine...the people who got rich from the California Gold Rush, were in large part the vendors of Levi's, shovels, and supplies. some who prospected and found the rich veins, kept their money, some lost it at the gambling houses, were robbed and killed, or died of deprivation and disease in their quest...bummer.

i try to find the companies that provide the meat and potatoes to the investing fads.

i own SYY because they supply many types of restaurants with the necessary provisions. i don't invest in restaurants because i don't want to stay ahead of the food fads.

i own DCI because they make the filters that run industry, dust filters, gas turbine filters, etc. they have patented the first air filter for fuel cells. i don't know who will win the fuel cell race, or which type of fuel cell will prevail, but i suspect they will all need clean air for an efficient system.

i own GLW because they own most of the technology behind the glass installed in flat screen TVs and computer monitors. (GLW has most of the manufacturing, but JVs with Samsung as well.) i don't know who will win the tv war, but the company that sell the most glass will benefit regardless of the nameplate on the screen.

i have established a position in ARG because they are becoming the package supplier of bottled specialty gasses to the medical and manufacturing, and construction industries.

not all of my stocks are selected from this concept, but it is the edge i keep looking for in future investments. i am sure many Fools here can come up with a much more brilliant list of "gold rush" vendors for today and tomorrow.
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not all of my stocks are selected from this concept, but it is the edge i keep looking for in future investments.

After reading your post, I have to admit that it is one of the best "down to earth"/logical/pragmatic approaches to growth investment I've ever read about.

DCFNewbie

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that feeds a theory of mine...the people who got rich from the California Gold Rush, were in large part the vendors of Levi's, shovels, and supplies. some who prospected and found the rich veins, kept their money, some lost it at the gambling houses, were robbed and killed, or died of deprivation and disease in their quest...bummer.
hondodog


I have used a similar idea for buying high tech: When there is a price war going on, don't buy the price warriors. Buy the arms merchants instead. For example, when there is a PC price war don't buy the Gateways and the Dells, instead buy the Intels and the Microsofts. When there is a carrier price war going on, don't buy the carriers or the handset makers, buy the companies making the components. Until the late 1990s this worked very well but it has not been working well since the tech bubble burst. :(

Denny Schlesinger
Caracas - Venezuela
denny@softwaretimes.com

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This is a fascinating article but it raises at least as many questions as it answers.

While it is all very well to trust Morningstar just because their analysts are "unbiased", I'd rather focus on the following essential question: How could one possibly do a DCF analysis that showed a group of very large companies (the top 10 in the NASDAQ), with a collective trailing PE of 44.74 and forward (i.e. speculative) PE of 31.7, to be approximately fairly valued? These companies are being valued like high-growth companies, but they're already enormous --- how much more can Cisco, Microsoft, and Intel grow revenues, and for how long? Or do we believe their margins are going to suddenly get much better? Or is it that PE's should be much higher right now because the risk-free rate is so low, and therefore we should accept lower returns from stocks? Or something else entirely? Just considering the difference between the trailing 44.74 and forward 31.7, this seems to imply about a 40% growth rate, assuming no dilution. Surely this is unsustainable for such large companies?

On the one hand, you have someone like John Mauldin, who states in "Bulls-Eye Investing" (I paraphrase) that a large bull market has never started from current valuations, and he backs it up with P/E ratios. On the other hand, you have Morningstar, whose argument seema to be "Ignore the PE ratios --- our in-depth analysis shows that lots of these stocks are fairly valued." While I'm fully aware that P/E ratios are an inadequate description of a stock's financial condition, my understanding is that the primary way in which an in-depth valuation can justify a high P/E ratio (say 44.74) is with assumptions of large growth. It seems implausible to me that the 10 largest NASDAQ companies, with a collective valuation of nearly 1 trillion dollars, can get all that much bigger.

I am not a premium Morningstar member. To anyone who is, do their analyses seem believable? Any thoughts?

Cheers,

rif

ps. Anyone have an opinion for or against Morningstar premium membership?
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"I have used a similar idea for buying high tech: When there is a price war going on, don't buy the price warriors. Buy the arms merchants instead. For example, when there is a PC price war don't buy the Gateways and the Dells, instead buy the Intels and the Microsofts"


I think of level 3 along these lines .....
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One of all-time favorites that I held for years (but not since about 2001) is AMAT -- Applied Materials, the designer, producer, and supplier of many of the biggest, most complex and expensive machines to the semiconductor industry, whether they're in the US, Japan, Korea, China, or wherever. I think the stock is still a little overpriced today but I continue to keep a close watch on it.

-Mike (mklein9)
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Greetings Windchasers,

This reminds me of an article over on the Efficient Frontier site called, "How Much Pie Can You Buy?" found at http://www.efficientfrontier.com/ef/102/pie.htm that has some thoughts about Growth stocks.

Though for a bit more background, consider the "Of Mines, Forests, and Impatience," at http://www.efficientfrontier.com/ef/401/fisher.htm from the same site.

I do like the comments at the end of the article:
"The conclusion boils down to this: Which do you believe more, DCF models on individual companies that are developed by analysts with no conflicts of interest who specialize in their respective industries or shorthand methods of valuation that are prone to GAAP accounting distortions and focus on the very short-term future or the trailing 12 months?

For my money, I'll take the discounted cash-flow valuation methodology every time. I believe it shows a more robust picture that is consistent with economic reality. The Nasdaq isn't a sell right now, it's a hold. "

However, in looking through statistics and trying to make projections and estimates, I am somewhat reminded of why I like to have a somewhat simplistic approach of just buying a few good funds and rebalancing among them and not really try to dig too much into this.

Regards,
JB
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Greetings rif,

I am a premium Morningstar member so I'll give an answer to these questions.

I am not a premium Morningstar member. To anyone who is, do their analyses seem believable?

Yes, though it is just part of where I look when it comes to my investigation of fund managers for who I'll trust with my money.

Any thoughts?

I tend to read some of the analysis for fun and to see if what I thought a few years back still holds and see what may have changed within some of their analysts views on some funds. I don't use it as heavily as I used to a few years back when I was just starting and wanted to get a second, third, or fourth view on a fund.

ps. Anyone have an opinion for or against Morningstar premium membership?

I'd suggest figuring what is in the premium that you'd want and determine a way to see if it is worth it. For me, it is worth it as I find it interesting reading to see what so-and-so thinks of a company or a fund while others may not find it so interesting.

Cheers,
JB
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Some excellent stuff in your post.

This is what I keep reading, from investing books but also from history related books too. "Titan" by Ron Chernow about Rockefeller covers this too.

I shall look into the companies you mention. Might be an interesting little research project based on these ideas.

It was a revelation of sorts to me that the NASDAQ is not the money spinner that people think and that the gains from 1995-1999 in S&P 500 were wiped out in 15 months following that period. Long-term, growth stock indices don't do well. NASDAQ being the prime example. IPOs being mostly bad return vehicles if you cannot get in at the start via a well connected full service broker (and even then, the odds are not great).

Nice talking with you.

Petey


that feeds a theory of mine...the people who got rich from the California Gold Rush, were in large part the vendors of Levi's, shovels, and supplies. some who prospected and found the rich veins, kept their money, some lost it at the gambling houses, were robbed and killed, or died of deprivation and disease in their quest...bummer.

i try to find the companies that provide the meat and potatoes to the investing fads.

i own SYY because they supply many types of restaurants with the necessary provisions. i don't invest in restaurants because i don't want to stay ahead of the food fads.

i own DCI because they make the filters that run industry, dust filters, gas turbine filters, etc. they have patented the first air filter for fuel cells. i don't know who will win the fuel cell race, or which type of fuel cell will prevail, but i suspect they will all need clean air for an efficient system.

i own GLW because they own most of the technology behind the glass installed in flat screen TVs and computer monitors. (GLW has most of the manufacturing, but JVs with Samsung as well.) i don't know who will win the tv war, but the company that sell the most glass will benefit regardless of the nameplate on the screen.

i have established a position in ARG because they are becoming the package supplier of bottled specialty gasses to the medical and manufacturing, and construction industries.

not all of my stocks are selected from this concept, but it is the edge i keep looking for in future investments. i am sure many Fools here can come up with a much more brilliant list of "gold rush" vendors for today and tomorrow.
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I shall look into the companies you mention. Might be an interesting little research project based on these ideas.

Petey



thank you for your kind words....the concept is really meant as a theoretical guideline, yet another item on your checklist as you look for stocks...i am not necessarily recommending any of the stocks in my post, in fact, some of them are overvalued, in my opinion, i have had most of these for a year or more, bought at different value opportunities.

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Hey, no problem.

I'm about to read Graham's Intelligent Investor (revised edition) and so it may tie nicely into that.

Petey


thank you for your kind words....the concept is really meant as a theoretical guideline, yet another item on your checklist as you look for stocks...i am not necessarily recommending any of the stocks in my post, in fact, some of them are overvalued, in my opinion, i have had most of these for a year or more, bought at different value opportunities.
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